Lloyds becomes Britain's new economic bellwether

If you wanted to know how the British economy was doing and did not have
access to the latest government figures you could do worse than use the
financial results published by Lloyds.

Probably better than any other major lender, Britain's largest retail bank holds up the most accurate mirror to the economy, providing a good reflection of what has happened since the start of the year and where things might be heading.Photo: Alamy

Probably better than any other major lender, Britain's largest retail bank holds up the most accurate mirror to the economy, providing a good reflection of what has happened since the start of the year and where things might be heading.

With this in mind, and despite the increase in the bank's profits, the signs do not appear too promising; for within the small print of today's first quarter results are contained some worrying messages.

Take the footnote to Lloyds' "good bank" numbers, which showed an 11pc fall in the underlying income of its so-called core business, as a result of what the bank said was "subdued new lending demand, continued customer deleveraging, and a lower banking net interest margin".

In those 14 words, the bank has neatly summed up the problems it and the wider economy are currently facing. Essentially, it tells us that business confidence remains low, that consumers still have too much debt and will be continuing to pay down their borrowings rather than going on the spending splurge the government would like, and finally that borrowing costs are rising.

None of this should be surprising. That business confidence is low is hardly breaking news and neither is the fact that Britons have too much debt, but what they point to is a natural break on Lloyds' profitability and on the ability of the wider economy to grow.

Lloyds chief executive, Antonio Horta-Osorio, has put great emphasis on his cost-cutting plans and internal restructuring, but without growth none of this will mean a great deal as the fortunes of Lloyds are deeply entwined with the performance of the country as a whole.

As fast as Mr Horta-Osorio can cut, along come higher funding costs to wipe out the gain.

Just look at the bank's closely-followed net interest margin which fell by 0.21pc to 1.95pc as a direct result of this.

Citigroup analysts are already predicting an even bigger hit to profits from next month's expected downgrade of the bank's credit rating by Moody's, which the US bank thinks could decrease next year's earnings by as much as 16pc.

There are certainly some bright spots in Lloyds' results, but even these point to a less than rosy future.

The much heralded shrinkage in the size of the balance sheet, though welcome, points to a less profitable future.

As Credit Suisse put it more succinctly this morning, a shrinking balance sheet means the bank's "earnings power" is diminished.

Like the British economy, Lloyds is finding that dealing with its legacy problems is having a direct impact on its ability to chart what it hopes will be a more profitable path in future.